Nigeria raises Sino spectre to win better deal

LONDON, Sept 29 (Reuters) – Reports that China’s state-owned oil company CNOOC is bidding for up to 6 billion barrels of oil equivalent in Nigeria’s current licensing round, contained in a letter leaked to the Financial Times, look like a negotiating tactic rather than a sign Nigeria is about to sell a sixth of its proven reserves to China.
The letter from President Umaru Yar’Adua’s office to CNOOC’s representative Sunrise, rejecting the company’s bid terms as “unacceptable” but promising to consider an improved offer, can only have reached the media from the president’s office or the oil company. Since the company has no interest in leaking a rejection letter, we can only assume it came from the Nigerian side.

It comes at a delicate time when Shell, ExxonMobil and Chevron are seeking to extend existing licences while Nigeria’s parliament considers legislation aimed at increasing state revenues by revising the terms.

The leak looks like a classic attempt to extract better terms from the international companies by raising the spectre of a powerful, cash-rich strategic buyer. The president’s economic adviser noted that the Chinese are offering “multiples of what existing producers are pledging. We love to see this kind of competition”.

In reality, it is unlikely Nigeria would want to sever existing relationships with the western companies (and lose access to superior exploration and production technology) to award all the blocks to CNOOC (and risk putting all the country’s eggs in one basket). It is in the country’s interest to maintain relationships with a diverse range of developers rather than become hostage to one.

While some blocks may eventually go to CNOOC, possibly in partnership with other bidders, CNOOC is unlikely to end up with rights to a sixth of Nigeria’s reserve base.

THE CHINESE ARE COMING

CNOOC’s interest is part of a larger strategic push which has seen China’s resource companies and sovereign wealth fund try to secure access to scarce raw materials and extend the country’s resource base by taking equity stakes, entering joint ventures or providing loan capital to countries and companies with deposits overseas.

Just as Japan’s wave of overseas acquisitions in the 1980s provoked (racist) fears that Japanese companies were on the brink of taking over the world, China’s attempts to buy into overseas reserves have triggered intense controversy, and failed as often as they have succeeded in the face of bitter political opposition.

Both the acquisition strategy and hostility to it are based on misunderstandings. The idea that buying overseas reserves and companies enhances supply security confuses physical risk (the threat that materials will be unavailable at any price, as a result of war or other conflict) with price risk (the danger that materials remain available but at such a high price the cost of acquiring them inflicts real damage on the consuming economy).

The real threat to China and other consuming nations is posed by prices not physical access. Soaring oil prices inflicted real damage on consumer countries in 2007-2008 even though there was no physical shortage of oil at any point.

Buying overseas reserves or companies might reduce physical risks at the margin, but does nothing to remove price risks, since prices continue to be set in world markets. It is unlikely a sovereign producer nation would jeopardise royalty and tax revenues by allowing materials to be shipped back to the acquiring country below market value.

The only real advantage to China is that buying overseas commodity assets provides a natural hedge. If commodity prices surge again, China’s raw materials companies and sovereign wealth fund will capture some of the revenues on the producer side to offset the losses its manufacturers make from the consumer one.

OWNERSHIP AND SOVEREIGNTY

The other misunderstanding is that ownership of overseas assets confers some form of absolute control. In reality, contract and ownership rights are always subject to the sovereign power of the host nation.

Buying oilfields, mines or acres of foreign farmland does not guarantee absolute control. Exploitation is still subject to the laws of the host country, and laws can be changed if the deal ceases to be advantageous to the host. Contracts are just the starting point for negotiation and revision.

Terms of access and exploitation are most likely to change in a crisis, when China needs access most. In the event of a price spike, host countries will almost certainly demand increased royalties and taxes to capture a larger share of the rent. If there was a real physical shortage and China’s resource companies sought to direct the flow of scarce raw materials home on a preferential basis — rather than selling them to the highest bidder on world markets — host nations would almost certainly intervene to ensure revenues were maximised and other customers not outraged.

The current fad for buying raw materials overseas (whether it is Chinese companies seeking iron ore, oil and copper, or Middle Eastern states buying African farmland) makes sense if the focus is on investment in sectors likely to be subject to scarcity and produce high returns. But if the aim is somehow to maintain “supply security” then this mistakes ownership for control.